Supplier Selection

by Damian Beil
Stephen M. Ross School of Business
July 2009

Abstract: Supplier selection is the process by which firms identify, evaluate, and contract
with suppliers. The supplier selection process deploys a tremendous amount of a firm’s fi-
nancial resources. In return, firms expect significant benefits from contracting with suppliers
offering high value. This article describes the typical steps of supplier selection processes:
identifying suppliers, soliciting information from suppliers, setting contract terms, negoti-
ating with suppliers, and evaluating suppliers. It highlights why each step is important,
how the steps are interrelated, and how the resulting complexity provides fertile ground for
ORMS research.

Today the average U.S. manufacturer spends roughly half its revenue to purchase goods
and services [1]. This makes a company’s success dependent on their interactions with sup-
pliers. The role of procurement managers (buyers) within companies has become extremely
important, often involving staggering dollar values: A recent cross-industry survey of com-
panies — in areas ranging from aerospace to semiconductors — placed companies’ average
total spend per procurement employee at $115 million [2].
With so much of a company’s money on the line, and increasing reliance on outsourcing
of many complex services and products, the job of a buyer is not only important but also
challenging. Buyers must define and measure what “best value” means for the buying orga-
nization, and execute procurement decisions accordingly. To identify best value, the buyer
must interface with technical, legal, and operations experts within the buyer’s company, and
act as an expert negotiator and coordinator across many internal and external parties.
Supplier selection is the process by which the buyer identifies, evaluates, and contracts
with suppliers. The challenges mentioned above make supplier selection a fertile topic for
operations and management science disciplines. There is also a growing audience for such
research, as the importance of fostering talent by employing buyers with analytical expertise,
general management backgrounds, and deep knowledge in a particular purchasing category
becomes widespread [3].
This article is organized around the major steps involved in supplier selection. First,
the buyer must identify qualified potential suppliers, as described in Section 1. Next, the
buyer must evaluate these suppliers. This process is initiated when the buyer formally

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solicits information from suppliers, as described in Section 2. Depending on the information
request, suppliers respond by providing “bids” for the contract, specifying an offer on the
contract terms, such as price, leadtime, quality, etc. Various contract terms, which relate to
the type of contract up for bid, are overviewed in Section 3. Suppliers’ offers often evolve
over the course of negotiation with the buyer, and negotiation processes are touched on
in Section 4. Finally, as discussed in Section 5, the buyer determines which supplier or
suppliers will be awarded a contract and subsequently monitors the supplier during the life
of the contract to support future supplier selection iterations. Finally, Section 6 discusses
ORMS research on supplier selection. While this article introduces the key steps in supplier
selection, further readings in this encyclopedia can provide a more detailed picture. Pointers
to such readings are suggested throughout this article; most importantly, see Article 4.4.4 for
details on procurement contracts and Articles 3.3 and 3.5 for discussions about negotiations.
For consistency in the article we refer to “buyers,” but in practice the role we describe
is also called procurement manager, procurement agent, or contracts manager. This article
focuses on the complexities and frictions involved in supplier selection (verifying that sup-
pliers are indeed qualified, using historical supplier performance in making award decisions,
etc.). Such complexities are present in the supplier selection process for most goods and
services. One possible exception are raw materials traded via commodity exchanges; such
markets are specifically designed to circumvent the complexities and frictions of supplier se-
lection by instituting highly standardized contract terms, using liquid markets to find prices,
and using clearinghouses to guarantee the terms of trade. As such, commodity exchanges
will not be covered in this article.

1 Identifying potential suppliers

To survive in the intensely competitive global economy, it is often critically important to not
only develop existing suppliers but also to discover new suppliers. This section outlines the
process of finding viable new suppliers. Subsection 1.1 first briefly motivates why a buyer
might wish to find new suppliers. Subsection 1.2 explains why identifying suppliers is only
part of the challenge — the buyer must also be cognizant of the need to ensure such suppliers
are qualified. Supplier qualification screening processes are discussed in Subsection 1.3.
Because identifying and qualifying potential suppliers can be time-consuming and costly,
buyers often develop a long-term supply base consisting of qualified suppliers, as discussed
in Subsection 1.4.

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1.1 Importance of new suppliers
Several factors make new suppliers important. First, there may exist new suppliers that
are superior in some way to a firm’s existing suppliers. For example, a new supplier may
have developed a novel production technology or streamlined process which allows it to
significantly reduce its production costs relative to predominate production technology or
processes. Or, a new supplier may have a structural cost advantage over existing suppliers, for
example, due to low labor costs or favorable import/export regulations in its home country.
Second, existing suppliers may go out of business, or their costs may be increasing. Third, the
buyer may need additional suppliers simply to drive competition, reduce supply disruption
risks, or meet other business objectives such as supplier diversity (see Subsection 5.2). In
recognition of these reasons, buyers and their internal customers may be obliged by company
policy to locate a minimum number of viable, potential suppliers for every product or service
procured.

1.2 Reasons for supplier qualification screening

Finding a viable new supplier is challenging mainly due to the need to verify the supplier’s
ability to meet the buyer’s myriad requirements [4]. Supplier non-performance on even the
most basic level, and for the most simple commodity, can have dire consequences for the
buyer, as recounted in the following nursery rhyme:

For want of a nail the shoe was lost. For want of a shoe the horse was lost.
For want of a horse the rider was lost. For want of a rider the battle was lost.
For want of a battle the kingdom was lost. And all for the want of a horseshoe
nail.

While apocryphal, the “for want of a nail” message holds a surprising degree of rele-
vance for today’s complex, global supply chains. Boeing’s 787 Dreamliner production sched-
ule was significantly affected by shortages of fasteners, essentially bolts that secure sections
of the fuselage together [5]. In consumer products many product safety issues have been
traced back to suppliers failing to meet a buyer’s requirements, resulting in dangerous lead
paint in toys [6], unsafe car tires [7], and pet food containing poisonous chemicals [8].
Production delays due to parts shortages and recalls of faulty products produced by
noncompliant suppliers have cost buyer firms millions of dollars through recalls, warranty
costs, and associated inventory adjustments, and have inflicted untold damage on their rep-
utations and future sales potential. Menu Foods’ market capitalization was halved after the

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firm recalled its pet food in March 2007; its suppliers are suspected of mixing toxic melamine
into their wheat gluten in an effort to make it appear more protein-rich [9]. New Jersey-
based tire importer Foreign Tire Sales traced field failures of its tires to an unauthorized
design change made by its supplier, whose design engineer decided to omit gum strips, ap-
parently unaware of their role in preventing tread separation [7]. A surprised Foreign Tire
Sales was forced by U.S. government authorities to recall a quarter of a million tires, and
risked bankruptcy as a result [10].

1.3 Supplier qualification screening process

To avoid the dire outcomes of supplier non-performance, buyers typically take proactive steps
to verify a supplier’s qualifications prior to awarding them a contract. The primary goal
of “supplier qualification screening” is to reduce the likelihood of supplier non-performance,
such as late delivery, non-delivery, or delivery of non-conforming (faulty) goods. A secondary
goal is simply to ensure that the supplier will be a responsible and responsive partner in the
day-to-day business relationship with the buyer [4]. Supplier qualification screening involves
many aspects, which are outlined below.

Reference checks. The buyer may contact previous customers and ask about the supplier’s
delivery performance, adherence to contract terms, what (if any) problems arose and how
they were resolved, etc.

Financial status checks. The buyer may use published supplier ratings (e.g., Dunn and
Bradstreet) to determine the supplier’s financial status and likely financial viability in the
short to medium term. For example, if the supplier has recently assumed significant debt,
this may raise red flags about the possibility the supplier will declare bankruptcy before
fulfilling its obligations to the buyer.

Surge capacity availability. The supplier’s capacity to increase delivery quantities within
short lead times is important as the buyer may be uncertain about their exact quantity needs
over the life of the contract. This is particularly true for long-term contracts where demand
for the buyer’s product may be heavily tied to unforeseen market events (e.g., demand for an
airplane manufacturer’s products are highly dependent on the overall economy, which in turn
periodically goes through periods of growth and contraction). Surge capacity is available
when a supplier has access to second or third shifts, overtime, underutilized facilities, etc.

Indications of supplier quality. The buyer might require that suppliers have ISO 9000

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certification (or similar), indicating that the supplier has policies, procedures, documenta-
tion, and training in place to ensure continuous adherence to quality standards. However,
in some cases the certification documents can be misleading and/or easily forged [4]. To
actually see if an adequate level of quality is achievable, the buyer may have to look deeply
into the supplier’s organization to ensure the supplier is capable and competent to meet the
buyer’s specifications.

Ability to meet specifications. To rigorously check the supplier’s capabilities the buyer
might: (i) Request samples of supplier products and test them to ensure conformance to the
buyer’s requirements. (ii) Visit the supplier’s production facility and interview line workers
and engineers to ensure that all members of the supplier team understand the critical features
of the product in their charge. For example, a buyer seeking to purchase tires from a supplier
may interview the design engineers to ensure they understand each aspect of the tire’s design
(for instance, the role of gum strips in preventing tread separation at high speeds). (iii) Audit
the production facilities to ensure that production can and will only proceed in a manner
approved by the buyer. For instance, the buyer may require the supplier to restrict their
production to small batch sizes in order to prevent contamination outbreaks from spoiling
the entire production run.

Buy-in from internal customer(s). Because the buyer typically acts on behalf of an
internal customer within the buyer’s organization, buy-in from this internal customer is a
crucial step prior to contracting. For example, suppose the buyer is purchasing a complex
circuit board on behalf of the engineering department (which owns responsibility for this
component). To ensure that the internal customer has confidence in the supplier and is
willing to work with the supplier, the buyer will set up meetings between the buyer firm’s
engineers responsible for the part and the supplier’s engineers who would be responsible for
producing it.

Supplier qualification processes are costly and can be time-consuming. As described

above, the processes can involve travel to distant supplier sites. Interviews with suppliers
and suppliers’ customers are time-consuming. Moreover, the entire process involves not only
the buyer but also internal customers throughout the buyer organization. Consequently,
qualification can take weeks or months — even for commodity-type parts such as printed
circuit boards.

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1.4 Creating a supply base
Suppliers who have passed the qualification requirements and are eligible for contract award
are commonly referred to as “pre-qualified” suppliers. If the buyer utilizes short-term con-
tracts and frequently re-procures the same item, it typically makes sense to establish a cohort
of pre-qualified suppliers who will compete for these contracts. Even if the buyer uses long-
term contracts for individual items (meaning contracts for individual items are infrequently
re-bid), it might still make sense to use a pre-qualified supply base: If the supply base mem-
bers can potentially supply many different items, they can compete to produce whichever
item’s long-term contract is up for re-bidding. Finally, using a supply base not only reduces
qualification screening costs but also allows for the development of standardized contracts,
terms and conditions for pre-qualified suppliers, thereby streamlining administrative pro-
cesses involved in contracting.

2 Information requests to suppliers

Once the buyer has identified potential suppliers, the next step in supplier selection is to
formally request that the suppliers provide information about their goods or services. While
there is no agreed-upon terminology, generally the buyer makes one of three types of infor-
mation requests to suppliers. The request types, each appropriate for a different situation,
are described below.

Request For Information (RFI) is issued when the buyer seeks to gain market intelli-
gence regarding what alternatives and possibilities are available to meet the buyer’s needs.
Typically the buyer asks suppliers what goods and services they could potentially provide,
what differentiates them from other vendors in the marketplace, etc. With an RFI the buyer
does not state a particular intention to award a contract. However, since responding to an
RFI is time-consuming for suppliers, generally suppliers will only respond to the RFI if they
expect that the buyer will eventually issue an RFP or RFQ, which is discussed below.

Request For Proposal (RFP) is issued when the buyer has a sense of the marketplace
and has a statement of work which contains a set of “performance” requirements which it
needs fulfilled. For example, the RFP may describe a formed part with certain strength,
flexibility, and fire resistance requirements, but not specify the particular composition of
the material. Suppliers respond to the RFP with details on how they would satisfy the
buyer’s performance requirements and the price they would be willing to accept to do so.

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Upon learning the supplier’s proposed pricing, the buyer may revise its requirements and/or
negotiate exact terms with suppliers. Thus, the process is generally iterative. An RFP is
appropriate for procurement of items that are non-standard or highly complex, requiring
supplier input and expertise about the best way to meet the requirements set forth in the
RFP.

Request For Quote (RFQ) is issued when the buyer can develop a statement of work that
states the exact specifications of the good or service needed. This is the case, for example, if
the buyer seeks a part made of a particular plastic and formed to a specific set of thickness,
density and shape specifications. RFQs are often used in conjunction with highly structured
competitive tendering processes. Typically there is no need for detailed negotiations with
suppliers after bid receipt, as lowest price or some other objective criteria is used to evaluate
bids. Due to their up-front specification requirements, RFQs are appropriate for procurement
of items that are standard and well-known in the marketplace. For example, in the electronics
industry this would include commodity components such as cables, connectors, and circuit
boards.

3 Contract terms
The supplier selection process culminates in a contract between the buyer and one or more
suppliers. The information received from suppliers via the requests described in Section 2
ultimately must be translated into formal contractual terms before contracting can occur. A
contract with a supplier specifies what the supplier should do and how they will be paid by
the buyer. At the highest possible level, contract terms relate to either monetary transfers
(payment terms) or how the contract will be executed (non-payment terms). Contracts can
specify any number of payment and non-payment arrangements. A few common ones are
listed here to provide the reader with a sense of what types of contract terms the buyer
might consider during negotiations and when making a contract award decision. The choice
of the particular contract structure (e.g., long-term or short-term, fixed cost or cost plus,
etc.) is beyond the scope of this article, but procurement contracts are covered in detail in
Article 4.4.4.

Payment terms. In a fixed-price contract, the price term specifies what the supplier
will be paid regardless of the actual cost to execute its contractual obligations. In a cost-
plus contract, a formula is specified which determines how much the supplier will be paid;

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for example, under a cost-plus contract the supplier could receive a fixed percentage (e.g.,
107%) of the total cost incurred, or simply receive payments for time and materials. Various
payments can also be specified as contingent on certain actions by the supplier (these can
also take the form of penalties). Examples include a payment made only upon delivery or
upon maintaining a certain target inventory service level, an award fee granted for meeting
budget targets in a cost-plus contract, an award fee for completing the project within a
certain timeline, etc. Liquidated damages clauses [11] can be used to specify an amount that
either the buyer or supplier must pay to the counterparty upon breaching the contract.

Non-payment terms. The contract can specify all kinds of details related to how the
contract will be executed, for instance, delivery quantities, delivery frequencies, delivery
locations, service level, quality level, technical specifications, duration of the contract, etc.
Contracts where goods must be transported typically assign “incoterms” (see [12]) defining
the precise point at which the buyer takes control of the shipment (and hence the associated
costs and risks).

4 Negotiation process
As we will discuss in Section 5, when making contract award decisions the buyer considers
each supplier’s qualifications as well as the contract terms they offer (e.g., price). A supplier’s
qualifications are generally considered exogenous, for example, a supplier’s reputation is
based on historical performance and is not alterable in the short term. Contract terms, on
the other hand, can be “negotiable” between the buyer and supplier. In a negotiation the
buyer attempts induce favorable terms from suppliers, and likewise the suppliers attempt
to induce favorable terms from the buyer. There are many different possible negotiation
processes. This section overviews a few canonical negotiation processes, but a detailed
discussion is reserved for Articles in 3.3 and 3.5 of this encyclopedia. For convenience we
adopt the viewpoint of a buyer when discussing negotiations.

For better or worse, negotiations often are viewed as zero-sum games where the buyer
gains what the supplier gives up. An extreme example of this is the take it or leave it
offer approach whereby a powerful buyer essentially dictates the terms to the suppliers. For
instance, the buyer might demand a certain price and simply refuse to consider the supplier
unless they agree to this price. Take-it-or-leave-it offers are rather draconian, and buyers
may be reluctant to utilize them for short-term gains if suppliers perceive them as unfair.

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Furthermore, take-it-or-leave-it offers require the buyer to credibly commit to not renegotiate
with the supplier should the supplier choose to reject the buyer’s offer. If the buyer cannot
make such a commitment, the threat imputed in a take-it-or-leave-it offer is meaningless.
Competitive tendering is an alternative way to extract concessions from suppliers
whereby suppliers are played off one another. Typically, suppliers simultaneously submit bids
(in response to an RFP or RFQ). Competitive tendering approaches differ in the amount of
visibility that suppliers have regarding competitors’ bids. At one extreme is the dynamic
open-descending-bid format. In this format, suppliers see all bids submitted and can respond
by lowering their own bid, until all but one bidder has dropped out (typically bidding lasts
an hour or so, [13]). At the other extreme is the sealed-bid format in which each bid is
known only to the buyer and the supplier who submitted it. U.S. government competitive
tendering is typically done through sealed bidding.
It is also possible that the buyer can utilize neither competition nor take-it-or-leave-
it offers. Instead, the buyer and a single supplier might bargain in some general and
unstructured way. Negotiation processes in practice may combine take-it-or-leave-it offering,
competitive tendering, and bargaining. For instance, the buyer could employ price-based
competitive tendering with a reserve price (the reserve price imposes an upper bound on the
amount the buyer is willing to pay for the contract and thereby acts like a take-it-or-leave-it
offer) to home in on the most promising supplier, then bargain with this supplier to finalize
the contract terms.
Negotiations do not always take a zero-sum approach. The buyer and supplier can
potentially both benefit if they realize their incentives are aligned rather than in conflict.
Research to help buyers and suppliers realize shared interests has led to numerous advances
in software-enabled “expressive bidding” in combinatorial auctions; see Article 3.5.1.5. For
instance, in transportation auctions for truckload procurement, both the shipper (buyer)
and the carrier (supplier) benefit if the shipper’s lanes up for bid complement the carrier’s
existing transportation networks in a way that minimizes empty truck movements (e.g., see
[14] and references therein).

5 Supplier evaluation and contract award

This section describes how the buyer evaluates suppliers, determines the contract winner(s),
and performs follow-up monitoring to inform future supplier selections. Supplier evaluation
is the process by which the buyer rank orders the suppliers, as we describe in Subsection 5.1.

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The buyer then uses this rank ordering, along with other business considerations, to de-
termine which supplier(s) will be awarded the contract, as we describe in Subsection 5.2.
Finally, after contract award the buyer can monitor supplier performance and use this infor-
mation during future supplier selection processes as described in Subsection 5.3.

5.1 Supplier evaluation

The buyer begins the supplier evaluation process by identifying the “dimensions” it wishes to
use when evaluating suppliers. [15] surveyed 76 papers on supplier selection in the purchasing
literature and found that price, quality and delivery were the most commonly listed supplier
evaluation dimensions. Additional dimensions are also used. [15] provides an extensive
list of such dimensions, categorized by prevalence in the purchasing literature. Frequently
appearing dimensions include production capacity and flexibility, technical capabilities and
support, information and communication systems, financial status, and innovation and R&D.
Dimensions that appear with moderate frequency in the literature include quality systems,
management and organization, personnel training and development, performance history,
geological location, reputation and references, packaging and handling ability, amount of
past business, warranties and claim policies, procedural compliance, attitude and strategic
fit, labor relations record, and desire for business. Of course, buyers often employ new
dimensions in response to prevailing business issues and challenges. Dimensions that have
emerged recently include environmental and social responsibility, safety awareness, domestic
political stability, cultural congruence with the buyer organization, and terrorism risk. See
[15] and the literature cited therein for more details.
Once suitable dimensions are identified, the ability to rank order suppliers is crucial for
reaching an informed supplier selection decision. Rank ordering is simple when supplier bids
are differentiated by a sole dimension such as price. This might be the case, for example,
if the buyer has issued an RFQ for a highly standardized component delivered in a certain
quantity by a certain date and suppliers are asked to respond with their price for the contract.
However, rank ordering suppliers becomes complex when bids must be evaluated across
multiple dimensions. For example, if the buyer wishes to evaluate suppliers’ bids on the
dimensions of price and leadtime, the buyer must construct a tradeoff between these two
dimensions to determine whether it prefers, say, a bid with a high price and short leadtime
to a bid with a low price and long leadtime. The challenge of supplier evaluation lies in
constructing this tradeoff in a way that accurately reflects the buyer’s preferences.

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 Research addressing this challenge dates back decades. A detailed review is beyond
the scope of this article but is provided in [16]. A variety of methodologies are proposed in
this literature, but the overall approach is usually one of three types. The first approach
is to capture the tradeoffs with a simple relationship between the dimensions, e.g., a linear
function of the dimensions. This is simple, transparent, and is often used in practice for
these reasons. However, the simplicity of this approach has a downside: The buyer can find
it difficult to construct weights that truly reflect its preferences. The second approach is to
go beyond simple weighting in order to reflect the buyer’s preferences with more detailed
models. For instance, the buyer can valuate leadtime using inventory models from ORMS
and then trade this valuation off against the price offered by the supplier. This approach
is less transparent, which makes it more difficult to implement in practice. Success has
been enjoyed particularly in domains in which the tradeoffs are relatively clear but how
to evaluate them is not, for example, a multi-product buy in which suppliers can produce
subsets of items and offer quantity discounts over the entire order. In such cases, OR tools
like mathematical programming can be quite beneficial; see Article 4.6.1.3, which covers
combinatorial auctions. Finally, a third approach recognizes that buyers at times find it
difficult to articulate their preferences in a quantitative way, and answer this difficulty by
proposing ways to infer quantitative preferences over attributes by observing the buyer’s
qualitative choices between options involving these attributes.

5.2 Contract award

Once the buyer has a sound methodology for evaluating suppliers, the process of contract
awarding can begin. During this phase the buyer determines which supplier or suppliers
to award a contract to. Supplier evaluation is a key ingredient in this process, but award
decisions can hinge on more than just how the buyer evaluates the supplier.
For example, even if suppliers are closely matched the buyer may choose to award the
contract to just one of them. Sole award contracting may be favorable if the scope of work
is best accomplished by a single supplier. For example, the contract may require significant
capital investments on the part of the supplier and/or buyer, creating strong economies of
scale effects. Sole-award contracting may also be used if it is unduly costly or risky to deal
with multiple suppliers. For example, the buyer may be sourcing an item with intellectual
property value (e.g., fabricating a proprietary part) and need to closely monitor the supplier
to prevent leakage of this intellectual property. A buyer outsourcing sensitive back-office

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operations (e.g., processing of client data) may need to invest a tremendous amount to train
its supplier to ensure robust security measures.
Likewise, even if one supplier dominates another, the buyer might choose to give busi-
ness to both of them. Multiple-award contracting can be useful if the buyer wishes to
diversify its supply sources to mitigate disruption risks (see Article 4.4.11), or if suppliers
have insufficient capacity or reverse economies of scale. There are also more strategic reasons
for multi-sourcing. For example, a buyer might wish to prevent any supplier from becoming
a monopolist, meaning it is the only viable supplier for a particular good or service needed
by the buyer. This would happen, for example, if all the supplier’s competitors exited the
market due to bankruptcy. A buyer facing a monopolist supplier cannot leverage competi-
tion. To avoid this fate, the buyer may award contracts to several suppliers to keep them
solvent and thereby encourage their continued presence in future contract competitions.
In general, there are many considerations which might tip the scales in favor of one
supplier or another, as evidenced by the long list of potential supplier evaluation dimensions
provided in Subsection 5.1. The buyer might deliberately favor incumbent suppliers to foster
trust and loyalty or, for example, to avoid the administrative costs of training a new supplier
on the buyer’s invoicing and payment procedures. Supplier location may also be a concern
in a way not manifested in logistics costs. For instance, if the buyer’s potential customers
are governments, these customers may be more likely to purchase the buyer’s products when
the government’s home suppliers benefit from the purchase. The buyer might also consider
supplier diversity objectives when making award decisions. If the buyer organization has
supplier diversity goals, preference is given to historically underrepresented or disadvantaged
businesses, such as small businesses, minority- and woman-owned businesses, sheltered work-
shops and non-profit organizations, etc. Supplier diversity is typically not legally mandated
in private industry, and the amount of preference the buyer grants to under-represented or
disadvantaged businesses in any one supplier selection event is typically situation-dependent.
However, specifically mandated preferences may apply to government contracts [17].
Regardless of which award criteria are used by the buyer, making such criteria trans-
parent makes it easier for the buyer organization to monitor its contract award decisions,
to ensure the reasons for contract award are sound (e.g., due to the merits of the bid). For
example, a “low price wins” rule makes it difficult for procurement managers to “cheat” the
buyer organization by negotiating a sweetheart deal with a supplier in return for a bribe.
For these and other reasons, the U.S. government, for example, generally favors competitive
negotiations for procurement with clearly announced rules for determining the winner [17].

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5.3 Supplier monitoring
Many contracts specify the provision of goods over an extended duration of time, ranging
from weeks to years. Monitoring supplier performance during the life of the contract has
several aims. For example, it supports quality if the buyer inspects incoming goods to ensure
they conform to quality specifications. Monitoring also supports cost containment: if there
is a problem with quality, it can be identified and charged back to supplier. For supplier
selection itself, however, monitoring is most important in so far as it helps the buyer make
more informed supplier selections in the future.
In particular, during supplier evaluation the buyer may consider factors which influence
the total cost of doing business with the supplier. Such costs can include, for example, the
conformance and non-conformance costs which the buyer anticipates incurring during the
life of the contract (e.g., costs of inspections and defect correction, respectively). (These
fall under the supplier evaluation dimension of “past performance” listed in Subsection 5.1.)
The buyer may forecast these costs for each supplier — see [18] for examples of how this
is done in practice. These forecasts can be constructed using historical performance data
collected through supplier monitoring. For instance, the supplier’s historical percentage of
defective items can inform the buyer’s forecast for nonconformance costs during the life of a
contract. (If, on the other hand, the supplier is new and thus the buyer’s protocols require
more careful inspection of incoming material (conformance costs), this also needs to be taken
into account by the buyer at the time of supplier evaluation.) Historical information about
supplier performance can also be leveraged during the negotiation process with suppliers.
The buyer may choose to directly incorporate this information into a competitive bidding
process via a bid markup or some other means to send a clear signal to the supplier about
the importance of performance; see [18].

6 Supplier selection research

Extant research on supplier selection can be divided into two broad streams. The first
stream dominates the purchasing literature and identifies appropriate criteria and methods
supporting supplier evaluation. The primary goals are to help the buyer decide what its
objectives are, what dimensions to evaluate suppliers over, and how to evaluate suppliers
using these dimensions. The second stream assumes that the buyer knows what it wants
and has an existing methodology for evaluating suppliers. It focuses on decisions such as

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what types of negotiation formats or contracts to employ, and how to elicit information that
suppliers may be reluctant to reveal.
ORMS research on supplier selection typically falls into the second stream of research
(although powerful OR tools such as math programming are also very useful in the first
stream). This research typically employs parsimonious models of the supplier evaluation
process, providing clean objectives for the suppliers and buyer. As such, these models often
most closely align with RFQ processes for the award of a well-specified contract, for which
supplier evaluation issues are relatively transparent. Typically the perspective taken is that
of a buyer seeking to award a contract to one or more competing suppliers possessing private
information about their cost to fulfill the contract. The competitive negotiation process
is often modeled as an auction or auction-like procedure — see Article 3.5. To ensure a
consistent model of behavior, typically all actors (buyer and suppliers) are assumed to be
fully rational — see Article 3.3.4.
For illustrative purposes, in the next subsection we provide examples of ORMS models
applicable to supplier selection. We then conclude this section, and the article, with examples
of supplier selection research topics which employ such ORMS models, Subsection 6.2.

6.1 Examples of supplier selection models in ORMS

As mentioned above, ORMS supplier selection models often focus on RFQ settings. The
typical setting studied is one in which it is relatively easy to evaluate supplier bids, but the
supplier has private information about what contract terms (e.g., payment size) it would be
wiling to accept. For example, the buyer would like to find the lowest cost supplier, and
each supplier i knows its cost to perform the contract is xi while the buyer only has a prior
belief that the cost follows some probability distribution F .
Auctions are common in practice and are also convenient for modeling. They are often
invoked as a structured way to model the act of soliciting information (bids) from suppliers
and negotiating contract terms. An auction is no more than a set of rules determining how
suppliers will pass information to the buyer, and how the buyer will use this information in
determining the contract award winner(s) and payment(s).
Once auction rules are combined with assumptions on the suppliers’ behavior, the
model can be used to predict the contract winner and payment. This perspective is quite
useful for analyses, as it allows such questions as “how will different auction formats affect
the contract winner and payments?” For example, suppose all bidders are fully rational.
If the auction is a second-price format, it is a dominant strategy for bidders to continue

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bidding down until they either win the auction or reach their true cost. This implies that for
n suppliers the auction winner will be the bidder j = arg mini=1,...,n {xi } and the expected
contract price is E[X2: n ], where X2: n is the second lowest order statistic of n draws from
distribution F .
Thus far we have discussed buyer beliefs, auctions rules, and supplier behavior, com-
prising the core ingredients of many ORMS supplier selection models. Additional embellish-
ments to the core model can be added to address specific research questions. For illustrative
purposes we will briefly describe a a model of supplier qualification screening.
With an auction model, an ORMS researcher can answer questions such as “what is
the effect of an additional bidder on the expected contract payment?” Clearly, the expected
contract payment decreases with the number of suppliers, raising the natural question of
how many suppliers the buyer should invite to its auction. From Section 1, we know that
identifying suitable suppliers is costly for the buyer. This motivates ORMS supplier selection
models which incorporate costs associated with supplier qualification screening. Qualification
screening can be thought of as a process whereby the buyer incurs a cost to learn information
about the supplier’s qualification. The following model discussion is from [19], which to
our knowledge is the first paper in the ORMS and economics literature to model supplier
qualification screening.
The model begins by parameterizing qualification screening requirements. To this
end, define a continuum of qualification requirements, with zero representing requirements
that every supplier satisfies and one representing requirements that virtually no supplier
satisfies. Let q0 ∈ [0, 1] be the scalar along this continuum that represents the buyer’s
pre-award requirements. For each supplier i, define its qualification level qi as the maximum
qualification threshold that supplier i can pass. Due to opaque qualification requirements set
by the buyer (as discussed in Subsection 1.3, e.g., gaining rapport with the buyer’s internal
customer), supplier i does not precisely know its true qualification level qi , but the buyer and
supplier share the common belief that qi is distributed according to probability distribution
H. This setup could model, for instance, a buyer deciding to outsource a portion of its
production currently done in-house, facing new suppliers she knows little about and who in
turn know little about her (possibly idiosyncratic) qualification requirements. The strictness
of the buyer’s pre-award requirements is captured by 1 − H(q0 ), the probability that qi ≥ q0 .
Under this model, the buyer and each supplier responding to the RFQ are equally
unsure of the supplier’s qualification until costly qualification verification is undertaken by
the buyer. If qi ≥ q0 , the buyer’s qualification process on supplier i would reveal that supplier

15
i is qualified. The cost the buyer would incur to do so is denoted by K, the total cost to the
buyer of verifying that an individual supplier meets all requirements to be deemed qualified.
For example, K may include the cost of purchasing and testing supplier products, travel to
supplier facilities abroad, etc. For simplicity, this model assumes that K is the same for all
suppliers. This assumption is most appropriate when suppliers are similar, at least in terms
of the cost drivers of qualification, such as distance from the buyer or number of units that
the buyer must purchase to run a test sample.
On the other hand, if qi < q0 , supplier i would be rejected during the buyer’s qualifi-
cation process after failing to meet a requirement. In this latter case, how much cost would
the buyer incur? Assuming that the requirements are nested (passing a larger threshold im-
plies passing a smaller threshold, but not vice-versa), the cost strictly increases with qi and
approaches K as qi approaches q0 . One may assume that the cost is linear and normalized
such that a threshold of zero costs zero to verify, implying that weeding out an unqualified
qi
supplier i costs the buyer q0
K. This is without loss of generality, because any nonlinear
and strictly increasing cost function of qi over [0, q0 ] can be renormalized to be linear by
redefining qi and renormalizing the distribution H. This completes the supplier qualification
screening model.
This subsection provided a glimpse of ORMS supplier selection research models. The
next subsection provides examples of ORMS supplier selection research topics which could
be explored with such models.

6.2 Examples of ORMS supplier selection research

As the above discussion in the present article indicates, there are many complexities and
tradeoffs involved in supplier selection, providing many opportunities for ORMS research.
The following lists just a few of the complex tradeoffs that need to be understood by the
buyer, illustrating the types of questions that can be addressed by ORMS research.

Timing of supplier qualification. While a buyer will typically only contract with a
supplier who has passed qualification screening, a buyer may choose to consider bids from
suppliers who have not yet passed qualification screening but may be needed to add com-
petition. Delaying some or all supplier qualification screening until after bids have been
tendered can save time and money wasted on qualifying suppliers who are unable to offer
competitive pricing. Industrial (i.e., non-government) buyers generally do consider bids even
if the supplier has not already been fully qualified (e.g., [4]). The optimal timing of supplier

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qualification screening processes and price negotiations is studied in [19].

Scope of negotiations (RFPs). Future ORMS research can be expected to inform prac-
titioners about how best to include evaluation criteria that are currently considered to be
too complex or subjective. These criteria will, with more advanced research, be quantified
and subject to analytical comparisons. In industry, efforts at total-cost modeling date back
decades [18]. One goal for supplier selection might be to refine the total-cost or life-cycle-cost
analysis so that it is more readily useable during negotiations with suppliers. To this end,
ORMS research has studied so-called multi-attribute negotiation mechanisms (also called
multi-attribute auctions, [20, 21]) and expressive bidding mechanisms (see Article 3.5.1.4 on
combinatorial auctions), and many supplier evaluation methodologies have been developed
in the purchasing literature [16].

Negotiation formats. There is a wide body of economics literature that seeks to determine
which rules of negotiation (or which “mechanism”) will work well in what situation. Due
to the many complexities and the variety of situations encountered in supplier selection, a
natural opportunity exists to study which rules of negotiation work well in supplier selection.
For example, the buyer’s preference between total-cost open-bid and sealed-bid auction for-
mats can be driven by how dissimilar the suppliers are in terms of their non-price factors
such as historical conformance and non-conformance costs [22].

Supply base design. When suppliers are concentrated in the same region, the buyer is
vulnerable to cost risks such as spikes in transportation costs between the buyer’s location
and the supplier region, e.g., due to a strike at the port of origin. Choosing suppliers in
different regions lessens the correlation between suppliers’ total costs, but this helps the
buyer only if she is able to prevent windfall profit-taking by low-cost suppliers. [23] studies
the relationship between the buyer’s bargaining power (ability to prevent suppliers from
taking windfall profits) and the optimal level of diversification of the supply base across
regions.

Additional research topics include understanding supplier collusion and methods to

mitigate its effects, and research refining the typical assumptions of ORMS supplier selection
research (such as laboratory tests of bidder rationality in auctions, see Article 3.6).

The present article provides a very basic introduction to the goals, complexities, and
terminology of supplier selection. Interested readers are encouraged to visit the Further

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Reading section below for articles that can serve as a point of departure for further study
into supplier selection.

References
[1] U.S. Census Bureau. Statistics for industry groups and industries: 2005. Technical Re-
port M05(AS)-1, U.S. Census Bureau, November 2006. Annual Survey of Manufactures.

[2] Center for Advanced Purchasing Studies. Cross-industry metric report. Technical re-
port, October 2008.

[3] N. Reinecke, P. Spiller, and D. Ungerman. The talent factor in purchasing. The McK-
insey Quarterly, (1):6–9, 2007.

[4] F. Hedderich, R. Giesecke, and D. Ohmsen. Identifying and evaluating Chinese sup-
pliers: China sourcing practices of german manufacturing companies. Practix, 9:1–8,
2006.

[5] J. Lynn Lunsford and Paul Glader. Boeing’s nuts-and-bolts problem; Shortage of fas-
teners tests ability to finish dreamliners. Wall Street Journal, page A8, June 19, 2007.

[6] J. Spencer and N. Casey. Toy recall shows challenge China poses to partners. Wall
Street Journal, page A1, August 3, 2007.

[7] D. Welch. Made in China: Faulty tires; How a Chinese supplier’s bad decision
turned into one importer’s worst nightmare, and may mean the end of his business.
July 12, 2007. http://www.businessweek.com/bwdaily/dnflash/content/jul2007/
db20070711_487422.htm.

[8] R. Myers. Food fights. CFO Magazine, June, 2007.

[9] Julie Schmit and Elizabeth Weise. Three firms indicted in pet-food recall case. USA
Today. February 6, 2008.

[10] C. Jensen. Recalls of chinese auto parts are a mounting concern. New
York Times Wheels Blog, http://wheels.blogs.nytimes.com/2008/12/19/
recalls-of-chinese-auto-parts-are-a-mounting-concern/, 2008.

[11] Arthur L. Corbin. Corbin on Contracts. Matthew Bender & Company, Inc., 2007.

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[12] International Chamber of Commerce. http://www.iccwbo.org/incoterms/id3040/
index.html.

[13] D. Ghawai and G.P. Scheider. New approaches to online procurement. Proceedings of
the Academy of Information and Management Sciences, 8(2):25–28, 2004.

[14] R. Chen, S. AhmadBeygi, D.R. Beil, A. Cohn, and A. Sinha. Solving truckload procure-
ment auctions over an exponential number of bundles. 2009. Forthcoming in Trans-
portation Science.

[15] Worapon Thanaraksakul and Busaba Phruksaphanrat. Supplier evaluation framework

based on balanced scorecard with integrated corporate social responsibility perspective.
Proceedings of the International MultiConference of Engineers and Computer Scientists
2009 Vol II. March 18-20, 2009, Hong Kong.

[16] L. de Boer, E. Labro, and P. Morlacchi. A review of methods supporting supplier

selection. European Journal of Purchasing & Supply Management, 7:75 – 89, 2001.

[17] Federal Acquisition Regulations. http://www.arnet.gov/far.

[18] L.M. Ellram. Total cost modeling in purchasing. 1994. Center for Advanced Purchasing
Studies.

[19] Z. Wan and D.R. Beil. RFQ auctions with supplier qualification screening. Forthcoming
in Operations Research, September 2008.

[20] D.R. Beil and L.M. Wein. An inverse-optimization-based auction mechanism to support
a multiattribute rfq process. Management Science, 49(11):1529 – 1545, 2003.

[21] D.C. Parkes and J. Kalagnanam. Models for iterative multiattribute procurement auc-
tions. Management Science, 51(3):435–451, 2005.

[22] D. Kostamis, D.R. Beil, and I. Duenyas. Total-cost procurement auctions: Impact of
suppliers’ cost adjustments on auction format choice. 2009. Forthcoming in Manage-
ment Science.

[23] Z. Wan and D.R. Beil. Bargaining power and supply base diversification. Working
paper, October 2008.

19
Further reading
Single-source models

• Basic auction theory

Krishna, V. 2002. Auction Theory, Academic Press. Pages 1-31.

• Mechanism design
Myerson, R. B. 1981. Optimal Auction Design, Mathematics of Operations Research,
(6):58-73.

• Multi-attribute auctions
Che Y.K. 1993. Design Competition Through Multidimensional Auctions, RAND
Journal of Economics, (24):668-680.

Multiple-source models

• Split-award contracts
Anton, J. J. and Yao, D. A. 1989. Split Awards, Procurement, and Innovation, RAND
Journal of Economics, (20):538-552.

• Quantity flexible contracts

Dasgupta, S. and Spulber, D. F. 1990. Managing Procurement Auctions, Information
Economics and Policy, (4):5-29.

• Entry fees
Seshadri, S. et al. 1991. Multiple Source Procurement Competitions, Marketing Sci-
ence, (10):246-263.

• Repeated sourcing events

Rob, R. 1986. The Design of Procurement Contracts, American Economic Review,
(76):378-389.

Competitive bidding and moral hazard

• Bidding competition and risk-sharing

McAfee, R. P. and McMillan, J. 1986. Bidding For Contracts: A Principal-Agent
Analysis, RAND Journal of Economics, (17):326-338.

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• Cost plus versus price only contracts
Bajari, P. and Tadelis, S. 2001. Incentives Versus Transaction Costs: A Theory of
Procurement Contracts, RAND Journal of Economics, (32):387-407.

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